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Devaluation of the Peso

Devaluation of the peso is being considered in the wake of the economic crisis that developed recently in Brazil and which is exerting negative impacts on the Mexican economy and placing increasing pressure on the peso in international currency markets. The pressure on the peso continues to be exacerbated by low-level of global demand for petroleum, which, in turn, affects adversely both Mexico's balance of trade position and the fiscal position of the national government in Mexico.

The proposed policy to devalue the peso is assessed through this research. The primary intended audience for this policy assessment of the President of Mexico and his advisers.

The tight monetary policy imposed by the central bank, together with the tight fiscal policy pursued by the national government, has caused some decrease in domestic demand. Inflation, however, is rising as the value of the peso decreases. Global oil prices collapsed in 1998 and have shown no signs of improvement.

Lower oil prices translate into lower revenues for the national government and a widening trade gap that puts pressure on the peso. Although oil accounts for only 10 percent of Mexico's exports, Petroleos Mexicanos, the state-owned oil company, generates 38 percent of national government revenues. National government revenues from Petroleos Mexicanos decrease by US$800 million on an annual basis for US$1 reduction in the world price for oil. Conversely, each US$1 increase in the world price for oil results in an increase in such revenues of US$800 on an annual basis (Malkin, 1998).

Inflation, at 17 percent, was higher in 1998 than the 12 percent that had been projected at the beginning of the year. The increased inflation rate was largely a consequence of the devaluation of the peso towards the end of 1997. Inflation, currency devaluation, decreased oil revenues for the national government, and other factors combined to cause the national government t...